EUR/USD
The Euro was initially able to hold above 1.2250 against the dollar on Tuesday despite the warning of very substantial European financial-sector debt-write-downs of potentially over EUR160bn by the ECB.
The Euro was then subjected to heavy selling pressure during the European session with fears over the debt situation and increased speculation that there would be a renewed downturn in the European economy and a double-dip recession. Underlying confidence in the ECB has also deteriorated and this was another contributory factor for Euro weakness. The currency weakened sharply to test 2010 lows near 1.2150 and there was a temporary retreat to below this level for fresh four-year lows.
The US ISM index fell slightly to 59.7 for May from 60.4 the previous month, but this was slightly higher than expected and helped improve sentiment towards the US and global economy. Wall Street was able to recover from initial losses and there was a significant improvement in risk appetite. In this environment, there was a recovery in the Euro and a squeeze on short positions pushed the currency to a high around 1.2350.
The Euro-zone unemployment rate rose to a 10-year high of 10.1% while Spanish Savings banks were put on a negative ratings watch by Standard & Poor’s which reinforced unease over the European financial sector. Underlying Euro sentiment was also still fragile and it retreated to the 1.2250 area later in the US session as rallies continued to attract selling pressure. There was speculation over longer-term capital outflows while US stock indices also came under renewed selling pressure.
Source: VantagePoint Intermarket Analysis Software
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Yen
Risk appetite was generally fragile during Tuesday with confidence in the global economy undermined by weaker than expected Chinese PMI reports while there was further unease over the European economic and financial outlook.
In this environment, there is likely to be caution over carry trades which will help protect the Japanese currency. The yen was unable to secure strong support as domestic confidence remained weaker and the dollar found support below the 91 level.
As the Euro came under pressure and risk appetite deteriorated, the yen strengthened to near 90.50 in European trading, but the currency was unable to make further gains. Following the US economic data and a rally on Wall Street, the dollar recovered back to above the 91 level.
Sterling
Sterling was generally weaker against the dollar in early Europe on Tuesday and dipped to lows below 1.4450 as the European currencies came under renewed selling pressure.
The UK PMI index for the manufacturing sector held steady at 58.0 for May, contrary to expectations of a measured decline in the index and this helped underpin sentiment to some extent.
There were strong rumours during the day that the Prudential deal to buy AIG’s Asian operations would collapse. Given that the deal valuation was over US$40bn, there was speculation that capital flows from the UK would be substantially lower than expected which provided currency support.
With a more constructive technical position and a squeeze on short positions, Sterling rallied strongly against the dollar to a high above 1.47. The UK currency also strengthened to an 18-month high near 0.83 against the Euro before a partial reversal.
Swiss franc
The dollar gained sharply to a high around 1.1730 against the Swiss franc on Tuesday, in line with a sharp decline in Euro currencies. The US currency then retreated sharply from these new 16-month highs and weakened to test support below 1.15 before rallying again in choppy trading conditions.
The Euro found support close to the 1.4150 level against the Swiss currency. Fears over debt write-downs within the Euro-zone banking sector could have a mixed impact on the Swiss currency as a loss of confidence surrounding the Euro would be offset by speculation that tensions could return to the domestic banking sector.
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Australian dollar
The Reserve Bank left interest rates on hold at 4.50% at the latest policy meeting which was in line with market expectations. There was a firmer than expected retail sales report, but there was a sharp decline in building approvals.
Overall, there are likely to be increased doubts over the domestic and international economy which will tend to undermine confidence in the Australian economy. Risk appetite also deteriorated in early Europe and the Australian dollar retreated sharply to below 0.83.
The currency rebounded to near 0.8420 in volatile trading before a fresh 100 basis-point retreat as Wall Street was unable to stay in positive territory.
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